Is a Car Accident Insurance Settlement Taxable?

How Is the Taxability of Car Accident Settlements Determined?

The taxability of car accident settlements is determined by the type of compensation you receive for your settlement. Some important things you need to know are:

• Nature of damages: The IRS primarily focuses on the nature of the damages when assessing taxability. You will need to review the types of compensation you receive, and determine if they meet the requirements for taxable or non-taxable elements of the settlement. 
• Origin of the claim: Settlements and judgments, if your case goes to trial, are based on the concept of “origin of the claim.” Essentially, this means your settlement may or may not be taxed based on the monetary recovery you were seeking from the defendant. 
• Physical injuries versus solely emotional distress: The IRS does not tax money received in settlements for physical injuries. However, when it comes to emotional distress, it depends on how the compensation is worded. If you receive compensation for emotional distress, not associated with physical injuries, then the money could be taxable. 
• Role of the settlement agreement: The settlement agreement breaks down the different types of compensation awarded to help make it easier for the plaintiff to understand any potential financial implications and taxability of their settlement. 

Are Car Accident Insurance Settlements Taxable?

Certain types of compensation received in car accident insurance settlements may be taxable. It is important to review the following Internal Revenue Codes (IRCs):

• IRC Section 61: This section covers what should be included in your gross income when filing your taxes and any exceptions. 
• IRC Section 104: This section details various types of compensation, and why these are excluded from your gross income, such as compensation for physical injuries.

It is also important to review any related car accident resource links related to the taxability of settlements. The IRS provides a few of these on their “Tax Implications of Settlements and Judgements” page.

Types of Damages in Car Accident Settlements

Your car wreck settlement includes compensatory damages, which are any monetary compensation received to help the accident victim recover any financial losses they experienced, such as: 

• Economic damages: These are tangible damages with actual dollar values, such as lost wages, medical bills, property damage, and rehabilitation costs. 
• Non-economic damages: Intangible damages do not have an actual dollar amount, and include emotional distress, pain and suffering, and loss of consortium/companionship. 

Another type of damage is called punitive damages, which are only awarded in rare situations where the defendant’s actions were deemed grossly negligent, reckless, or intentional. Punitive damages are meant to punish the defendant for their behavior, and deter others from behaving similarly. 

Types of Taxable and Non-Taxable Compensation in Car Accident Settlements

Settlements from car accidents can include taxable and non-taxable damages. 

Taxable Compensation

• Lost wages: You may be responsible for paying taxes since lost wages are usually based on your gross wages, not your net pay. However, lost wages may be exempt if they directly relate to your physical injuries. 
• Punitive damages: In cases where punitive damages are awarded, you must pay taxes since they are meant to punish the defendant, not compensate you for your injuries and losses. 
• Interest: If you receive interest payments for lost wages or punitive damages, it is considered taxable income.

Non-Taxable Compensation

• Physical injuries: Any compensation you receive due to your physical injuries is not taxable.
• Pain and suffering: Pain and suffering are usually not taxable when directly related to physical injuries. 
• Emotional distress: Emotional distress follows the same guidelines as pain and suffering in regards to taxability. 
• Medical expenses: Any compensation received to pay for your medical treatment related to your injuries is not taxable. 

However, there are a few exceptions where you may need to pay taxes on non-taxable compensation:

• If you were not physically injured, and only received compensation for pain and suffering or emotional distress.
• If you deduct medical expenses related to your injuries from your tax return, you must claim the deducted amount as taxable income.

Components of a Car Accident Settlement and Their Tax Implications

The individual components of a car accident settlement will have different tax implications. Whether or not they are taxable can become very confusing. It is recommended to consult your personal injury lawyer, a tax professional, or a CPA to determine the taxability of each of these elements. 

Medical Expenses

As mentioned previously, medical expenses are usually not taxed. It is crucial to keep all documentation, medical records, and copies of medical bills, as well as your signed settlement agreement, to show the actual amount of compensation you received. However, as just mentioned above, medical expenses could be taxed if you deducted them from your federal tax return. 

Lost Wages

Lost wages are another type of compensation that may or may not be taxable, depending on how the lost income relates to your physical injuries. Lost wages can be treated like income because they are replacing your actual income from your job. 

However, unlike your paycheck, lost wages compensation does not have any taxes taken out when you receive your settlement. It can be beneficial to consult with a tax professional to determine whether you owe taxes on lost wages, as this is a common area where people have tax concerns. 

Pain and Suffering

When pain and suffering compensation is awarded in your settlement, since it is related to your physical injuries, it is usually non-taxable. However, as mentioned earlier, it could become taxable if you did not experience any physical injuries in the car accident, and only experienced emotional injuries. 

Property Damage

Property damage compensation is generally non-taxable because you are using the money to replace or repair your vehicle, clothing, and other personal property damaged in the car accident. However, if you receive property damage compensation that exceeds your vehicle’s value or costs for other personal property you need to repair or replace, it could be considered taxable income. 

Punitive Damages

As mentioned earlier, punitive damages are awarded to you but serve to punish the defendant because of their grossly negligent behavior and actions. As a result, any money received is considered taxable income, and must be claimed on your tax return. 

How to Potentially Reduce Taxes on Your Auto Accident Settlement

One concern with large lump sum car accident insurance payout settlements is taxable compensation. When taxable compensation is included, it could push you into a higher tax bracket. Some different options could potentially reduce your taxes on your settlement, and help to keep you in a lower tax bracket.

Structure Your Settlement

Have your lawyer help you set up a structured settlement instead of taking a lump sum payment. A structured settlement allows you to receive a set amount yearly, every other year, or at a schedule you determine. This allows you to only pay taxes on any taxable compensation in the year you receive it, not the lump sum. 

Consult With a Tax Professional/CPA

Before signing your settlement agreement, it is a good idea to consult with a tax professional or CPA. They can provide insight into what parts of your settlement would be taxable, and approximate how much federal taxes you could pay. Let them know if you plan on setting up a structured settlement, as this helps keep you in a lower tax bracket. 

Consult With a Personal Injury Attorney

Speak with your personal injury attorney about the tax implications of your settlement. Work with them to show that the compensation you receive is directly related to your physical injuries, so you can avoid paying taxes. They can also assist you with setting up a structured settlement or a settlement trust, both of which can help keep your taxes lower. 

Keep Detailed Records of Medical Expenses and Legal Fees

You can attempt to maximize your medical expenses because they are excluded from taxation. One way to do this is to keep detailed records of current and future medical expenses if you are still under treatment. 

Another option is to consider deducting your legal fees from your tax return if you can. However, if that is not an option, another way to avoid potentially being taxed on legal fees is to set up a trust. Talk to your lawyer for assistance in setting up your settlement trust.  

How Can an Attorney Help With Car Accident Settlement Taxes?

Our Miami personal injury attorneys understand the complexity of tax laws and know how to look for potential settlement errors that could result in tax liability. Some of the ways we can help with car accident settlement taxes include:

• Help you under the tax implications of the various components of your settlement
• Negotiate a settlement offer that has minimal taxable compensation
• Help you create a structured settlement or settlement trust to reduce your annual tax burden
• Provide references to a tax professional or CPA 

For further information about car accident settlement taxes, or assistance with filing your car accident injury claim, contact Bernstein & Maryanoff, Injury Attorneys, for a free consultation today. 

Get expert legal advice now. Call 1-800-429-4529 for your free consultation. 

FAQs

Sources:

Compensation for Injuries or Sickness, 26 § U.S.C. 104. (2025).

Gross Income Defined, 26 § U.S.C. 61. (2025).

Tax Implications of Settlements and Judgments. (2024).

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